Chapter 5 Types of Family

Types of Family Premature Death: death of family head w outstanding unfulfilled financial obligations as: cost of living & education & pay off mortgage. Cost of Premature Death: 1-PV of family share of future earnings. 2-Cost of funeral, medical bills & tax. 3-Reduction of standard of living. 4-Emotional grief, loss of parental model & children counseling & guidance. Chance of Dying Prematurely: 3 reasons: heart disease, cancer & stroke.

Types of Family Financial Impact of Premature Death: 1-Single People: divorced or not married person, need small amount of life insurance to cover burial cost & uninsured medical bills.

2-Single Parent Families: widow, divorced or separated spouse with children need great amount.

3-Two Income Families: a)both wife & husband work without children so, no need for life insurance or they need small amount.

Types of Family or b)both wife & husband work with children (one outside home), if spouse work outside dies they need large amount of ins. (living cost) & if spouse work inside dies so, larger amount of insurance is needed (cost of living & childcare).

4-Traditional Families: wife & husband with children & one works outside home, they need large amount of life ins. if working spouse dies (cost of living) or larger amount if non-working spouse dies (cost of childcare & cost of living).

Types of Family 5-Blended Families: divorced or widowed spouses w children remarried a spouse w children need large amount if one dies & need the highest amount of insurance if working spouse or both dies.

6-Sandwiched Families: son or daughter with children is supporting one or both parents so, they need huge amount of life insurance.

Types of Family Amount of life insurance to own : 3 approaches 1-Human life value approach. 2-Needs approach. 3-Capital retention approach 1-Human life value approach: PV of family share of deceased future earnings & calculated as follows: a) Calculate average annual earnings. b) Deduct: tax, ins. prem.& his personal needs (1-2= share of family earnings) c) # of years (retirement age – your age) d) Insurance amount = PV of family earnings share.

Types of Family Ex: Ali, age 40, earns $12,000 annually, tax, insurance premium & personal needs $4,000 married & has 3 kids, retired at 60. Solution: Insurance amount = $8,000 x PV of annuity for 20 years at 8% (8,000 x 10,603599 = $84,829. Advantage: easy to calculate. Disadvantage: a)Other sources of income not considered. b)Assumed constant earnings & expenses. c)Amount allocated to family isn't constant & depend on divorce or birth.

Types of Family d)Ins. amount depends on discount rate which is difficult to predict. e)Ignored inflation effect. 2-Needs Approach: family needs if family head dies minus existing assets & life ins. Family Needs: a)Estate clearance fund (burial exp., medical bills, debts, tax). b)Income during readjustment period (1-2 years after death). c)Income for dependency period (kids=18).

Types of Family d)Life income to surviving spouse if doesn't work (income in blackout period from time social security stop until resume, income to supplement social security (60 year)). e)Special needs: education, mortgage pay off, emergency fund: home & car repair cost. f)Retirement needs for family's head: in addition to social security, employer retirement benefits (annuities & investments).

Types of Family Advantages: Illustration of Needs Approach: 1-Amount needed to meet: Cash, Income & Special Needs. 2-Present available total assets: Pension, Fund, Ins, Property, Social Security Benefits. 3-Amount of life ins. needed: Total Needs - Total Assets (1-2) Advantages: 1-Reasonable & accurate. 2-Consider assets & other sources of income 3-Consider needs for disability or retirement.

Types of Family Disadvantage: 1- Difficult to predict future needs & depends on assumptions. 2- Family needs change (divorce, death, birth) so, must periodically evaluated. 3- Ignore inflation, then ins. amount will be less than actual needs. 4- Ignore preservation of estate assets for heir.

Types of Family Steps of Calculating Amount of Insurance: 3-Capital Retention Approach: produce the capital needed to provide needed income to the family. Steps of Calculating Amount of Insurance: 1-Prepare a Personal Balance sheet: Assets (death benefits from: pension, group ins. & other source, investments, property) & Liability (mortgage, auto loan, debts, bills). 2-Determine the Amount of Income-Producing Capital: Amount that produces income to the family=Total Assets – (Liabilities, Cash Needs: education, emergency & maintenance fund & Non-Income Producing Capital: car, home)

Types of Family Advantages: 3-Determine the additional needed capital =Additional Needed Capital ÷ Interest Rate Additional Needed Capital = Needed Income - Available Income (pension, social security). Advantages: 1-Easy to calculate, understand & preserve capital. 2-Income of emergency & education fund hedge inflation. 3-Consider needs for disability or retirement. Disadvantage: produce large amount of insurance.

Types of Family Methods for Providing Life Insurance Protection: 1-Yearly Renewable Term Method: provide insurance for 1 year w right to renew it each year without prove of insurability but w higher prem. (bad health renew & good won't-adverse selection), so, it is not practicable for long time protection. 2-Level Premium Method: insured pays equal prem. each year as long as he still alive up to 100. Prem. is more than natural prem. during 1st term & less 2nd term & the differences are called legal reserve.

Types of Family Purpose of Legal Reserve: help providing whole life insurance w level (equal) premium & used in later years to supplement deficiency in prem. Net Amount at Risk = Ins. Amount – Legal Reserve Insurance Amount = Legal Reserve + Net Amount at Risk Amount of Insurance = Saving + Protection Element Cash Value: if insured needs to cancel the policy (surrender), he has the right of legal reserve (surrender value) but after 10-15year